Ratings agency sees headwinds for on-line grocers

NEW YORK — On-line grocery sales are expected to gather steam, but they will remain a small part of the overall grocery market for the foreseeable future, according to Fitch Ratings.

The ratings service said on-line grocery sales currently account for approximately 1% of the $631 billion U.S. grocery market, making it one of the lowest penetrated categories. Assuming on-line grocery sales grow at 10% to 15% annually compared with an estimated 3% annual growth for the total market, on-line sales would grow to 2% to 3% of the grocery market in 10 years, Fitch said.

Companies that are expected to contribute to the increasing share are FreshDirect, Peapod, Amazon, Google, Wal-Mart Stores, Inc., and Safeway. Fitch said the contributions from Amazon and Google likely will come from the addition of groceries to their offerings, while Wal-Mart and Safeway will help grow the category by expanding beyond their current tests of grocery delivery.

But Fitch identified several reasons why on-line grocery sales are not growing more rapidly, including consumer resistance to delivery fees that may range from $6 to $10 per order or a minimum order amount.

“Most consumers will conclude that the convenience of having their groceries delivered is not worth the added cost,” the ratings agency said. “Difficult economic factors that confront on-line grocers also contribute to slower growth. These include heavy upfront investments, logistical challenges associated with delivering perishable items, and the inherently low margins associated with selling food. These factors will limit the number of new market entrants as well as the pace at which existing players expand.”

Fitch noted that Amazon tested its on-line grocery service in Seattle for six years before recently expanding to a limited part of the Los Angeles market. Other companies, including retailers such as Wal-Mart, Safeway and Kroger, likely also will take a measured approach until they have the economics of home delivery have proven themselves, Fitch said.

Tapping into the on-line grocery market has been a topic of discussion in a number of recent conference calls among supermarkets and retail chains.

In a June 20 conference call with analysts to discuss first-quarter financial results, Rodney McMullen, president and chief operating officer of Cincinnati-based Kroger, said Kroger continues to work on getting the scale and profitability needed to make e-commerce a viable service for the company.

The company has been experimenting with on-line retailing and home delivery at its King Soopers stores in Denver for several years, and Mr. McMullen said the service is continuing to grow “at a modest rate.”

“We’re working on it, as much in terms of understanding the economics and trying to get a model that actually is profitable, so it’s one of those things where you should see us continue to work on it to improve it,” he said.

Meanwhile, in late May, Melissa Plaisance, senior vice-president of finance and investor relations at Pleasanton, Calif.-based Safeway, said that although Safeway has an on-line presence in five or six U.S. markets through such sites as www.safeway.com and www.vons.com, the company does not necessarily see the on-line efforts as a growth vehicle.

“We find that there are customers who don’t want to have to carry big bags of dog food or cases of water home, so delivery is good for them,” she said. “There might be people who aren’t able to get around very easily and they like home delivery. But in our market areas … it’s not a real growth vehicle. It’s limited in scope, but it does extend our reach, and it helps provide customer service.”

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